On Bounded Rationality and Risk Aversion

Markus Brunnermeier

FMG Discussion Papers from Financial Markets Group

Abstract: This paper describes the relationship between bounded rationality and risk aversion. It shows athat bounded rationality increases risk aversion at the reference income level and that there exists an income level below the reference income level where bounded rationality reduces risk aversion and may lead to risks loving behaviour. These theoretical results are in line with previous experimental results. A boundedly rational decision maker is modelled as an agent who makes decision errors in choosing the optimal consumption bundle or does not know precisely his/her own true preference ordering.

Date: 1997-01
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